3. Open Ended Matching Grant

a) Expenditures on highways will increase because of both a substitution effect and an income effect. The expenditures on highways will very large if the quantity spent on other all other goods declines because the substitution effect is larger than the income effect. This would mean that the community chooses to move to point III from point I rather than to point II.

3. Unrestricted Non-matching Grant

b) Expenditures on highways and all other goods will both increase because both have a positive income effect. The community will move from the combination at I to that at point II.

3. Unrestricted Non-matching Grant

c) The city starts out initially at Point I. With a matching grant they move to Point II. If the are given the same amount of money in a block grant so that Point II is still possible, then the budget constraint shifts out in a parallel pattern. This makes Points III and IV also possible. If the city moves to point III, then the matching grant can give a higher level of utility. If the city moves to Point IV, then the matching grant is preferred.

All O

ther

Goo

ds

Highways

I

II

III

IV

6. Specify whether each of the following taxes or fees is ability-based or benefits-based:

Tax or Fee Ability or Benefits

Automobile fee based on value of the vehicle Ability-based

Automobile fee based on weight of vehicle Benefit-based

Inheritance tax Ability-based

FICA tax Ability-based

Excise tax on alcoholic beverage Intermediate

Excise tax on telephone service Benefit-based

Airport departure tax Benefit-based